The Hinkley Point cautionary tale - ENPG

The Hinkley Point cautionary tale

Authors: Laurențiu Pachiu, Anca Elena Mihalache

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The French utility EDF is at a crossroads. It will sign, supposedly by the end of April or the beginning of May 2016, a final investment decision (FID) on a rather controversial project, the Hinkley Point nuclear power plant in Somerset, UK. The twists and turns which have brought EDF to this point are a good lesson for Romania’s nuclear power producer, Nuclearelectrica, with its own ambitious plans to build the Cernavodă reactors 3 and 4.

The events went as follows. Respected EDF Chief Financial Officer Thomas Piquemal turned in his resignation at the beginning of March because of internal disagreements over Hinkley’s commercial viability and the disastrous impact that its possible failure would have on EDF. Piquemal was proposing delaying the project’s final investment decision by three years, a respite for the company to address some of its other pending issues.

His plight, however, fell on deaf ears. CEO Jean-Bernard Lévy refused to budge. The French state has an 85% stake in EDF, so the decision was not really Lévy’s to make, but it appears that the interest of the British client took precedence over that of EDF’s other stakeholders, who Piquemal was trying to protect.

Time will tell if Piquemal’s caution was ominous, but it is clear for now that it was most reasonable. Worries abound about Hinkley’s technical and commercial viability at a time when decarbonization efforts, among other factors, are reshaping the global energy markets. Hinkley itself was thought up as part of Britain’s decarbonization strategy, with its 3.2 GW capacity set to produce 7% of the UK’s electricity by 2025. The hope is to then follow the project with similar ones. Hinkley would bring the UK’s first new reactors in more than 20 years, for a construction cost estimated at £18 bn in 2015 (up from £16 bn in 2012). EDF is to develop the project alongside China General Nuclear Power Corp (CGN), which holds a one third stake in the project.

But Hinkley’s proposed European pressurized reactor (EPR) model has yet to produce a working version. Its two projects to date have run into significant problems: Finland’s planned Olkiluoto 3 reactor is now 10 years behind schedule and has gone €5 bn over budget; and France’s Flamanville is six years behind and €7.2 bn over budget.

The latter moreover, seems to have caused also some safety concerns as „very serious anomalies” have been found in its reactor vessel, according to the French nuclear regulator (expected to release the full report later this year). Delays and overcosts have resulted from the EPR’s complexity. Seen by the French as one of their landmark technologies – intended as one of the most powerful and safest in the world – it was designed in the 1990s by French Areva and German Siemens.

The massive cost overruns and delays on the Finnish project have brought Areva to the ground, with the company set to be broken up as part of a government supported bailout plan. Parts of Areva will have to be taken over by EDF at a time when the utility’s net debt has already reached €37 bn. EDF is borrowing money every year in order to pay its dividend. Standard & Poor’s even warned in 2015 that if Hinkley goes through, it is considering downgrading EDF’s debt. And EDF is in the process of refurbishing France’s nuclear fleet so as to add another 10 years to its life expectancy, a project estimated to cost the utility another €55 bn until 2025.

EDF’s troubles are not unique in Europe. Most utilities are dealing with mounting pressure over climate policies, renewable energy and overcapacity which have helped push wholesale electricity prices down. This later factor, of a systemic nature, must also be held in mind by Nuclearelectrica.

It has also been, among other factors, the motive behind a state-aid package drafted in 2013 by the British Government in support of the Hinkley investment. The plan runs over a period of 35 years and is aimed at offsetting Hinkley’s high construction risk and guaranteeing its financial feasibility.

It comes in the form of a contract for difference (CfD), meant to encourage investment in low-carbon energy projects by reducing electricity producers’ exposure to volatile wholesale prices by offering them a steady revenue. At the same time, it is meant to protect electricity buyers from paying for higher support costs when electricity prices go up. But the strike price set in Hinkley’s CfD, £92.50/MWh (€130/MWh) is almost three times the current market price and set to raise in line with inflation, which renders moot, at least for now, the argument of consumer protection. The aid package also bestows upon the developers a Treasury-issued infrastructure loan guarantee in order to have their borrowing costs reduced.

The European Commission (EC) approved the package in the fall of 2014, a decision contested at the European Court of Justice in July 2015 in two separate appeals. One came from the Austrian government which argued that state-aid should be granted to „new and modern technologies that are in the general interest of all EU countries” and, „in no way is this true of nuclear power.” The second came from Action Alliance, an association comprising Greenpeace Energy and nine Austrian and German energy suppliers, arguing that the state-aid would massively distort European competition and would have a „clearly negative effect on the market value of wind and solar power in Germany”. Both appeals will likely take years to be resolved.

The EC seems to have grounded its decision on the Euratom Treaty, which however does not substantiate state-aid. In supporting its decision, the EC qualifies the UK’s state-aid package as investment aid (which is compatible with the internal market, with no significant impact on competition) arguing that the project has demonstrated that the subsidy would address a genuine market failure and that the nature and scale of the project would not have permitted it to obtain alternative financing. However, doubts have been raised whether the project really faces a market failure to justify the subsidies.

The EC also uses Art. 107(3)(c) of the TFEU to justify a common interest in building a nuclear energy project, which would make the state-aid permissible. The article reads that state-aid is compatible with the internal market if it is used to “facilitate the development of certain economic activities or of certain economic areas, where such aid does not adversely affect trading conditions to an extent contrary to the common interest”.

But arguing a common interest based on these two pieces of legislation leaves the decision on shaky ground. Euratom is a framework designed to ensure the safe use of nuclear energy and not an instrument of energy policy (as is Art. 194 of the TFEU, to which, however, no mention is made). Euratom opens but the possibility, and certainly not the obligation of Member States to invest in nuclear energy and it does not exempt these projects from complying with state-aid regulation. Even if all 28 EU Member States are parties to Euratom, this does not justify interpreting the Treaty as an instrument meant to promote a common interest, in this case, nuclear energy generation. On the contrary, several signatories are now seeking a renegotiation of the Treaty, in line with their choice to oppose nuclear energy generation. Speaking of a common interest in nuclear power generation is all the more absurd as several states, Austria included, have had it banned from their energy mix.

On the market end of the deal, once subsidized electricity from Hinkley enters the European market it may cause distortions, since subsidizing a mature industry such as nuclear raises the risk of overcompensation.

Lastly, nuclear energy can barely be seen as a service of general interest since electricity production is generally a commercially viable activity; and nuclear energy cannot be construed as essential from an energy supply security point of view since uranium would have to be imported in the UK’s case. Nevertheless, in the British context of anticipated power supply crunch over the coming 15 years, there is a case that London can make for Hinkley in terms of the need for predictable, clean energy that the country will demand one decade from now.

In light of these facts, the EC’s decision seems a political choice dressed up as a legal argument. Which is not to say that the political choice is not a reasonable one. After all, the UK’s escalation towards a possible Brexit this summer was highly motivated by Brussels’ drive to have a say on specifically such projects as Hinkley, over which Member States tout sovereign rights. Further alienating London over a nuclear power plant would have seemed like the wrong political choice. Paris too has a lot at stake in the project, with the success of EPR technology key, if France is to maintain its position as Europe’s nuclear energy sector leader.

The arguments matter because Romania will not benefit from the same strong political case when it notifies the EC about its own state-aid plan for Cernavodă 3 and 4. Nuclearelectrica’s case is just now in the making, apparently with a study to be commissioned soon in order to assess the viability of a UK-style CfD scheme. So far DG Competition has only inquired about the project as a result of the signing of the Memorandum of Understanding with CGN. A meeting with European representatives will follow.

But when, or rather if the study shows state-aid as opportune, Bucharest’s plight to the EC should follow stronger legal arguments than those of the UK, with a special look at how the two appeals to the decision have been motivated. Predictable delays and obstacles to ensue from the current Hinkley case might also cause the common player in both projects, CGN, to rethink, adding an additional layer of worry to Nuclearelectrica: that of keeping the investor interested in the project, which will be difficult to reconcile with the competing end-consumer’s interest.

All these point out to a long road ahead for Nuclearelectrica’s reactors 3 and 4. Moreover, a good hard look at EDF’s current woes should give the Romanian company an idea of what could follow if the final investment decision is not based on commercial logic, as Piquemal was trying to promote, and on an accurate understanding of long-term market trends.


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